This is the accessible text file for GAO report number GAO-14-179
entitled "Homeowners Insurance: Multiple Challenges Make Expanding
Private Coverage Difficult" which was released on January 30, 2014.
This text file was formatted by the U.S. Government Accountability
Office (GAO) to be accessible to users with visual impairments, as
part of a longer term project to improve GAO products' accessibility.
Every attempt has been made to maintain the structural and data
integrity of the original printed product. Accessibility features,
such as text descriptions of tables, consecutively numbered footnotes
placed at the end of the file, and the text of agency comment letters,
are provided but may not exactly duplicate the presentation or format
of the printed version. The portable document format (PDF) file is an
exact electronic replica of the printed version. We welcome your
feedback. Please E-mail your comments regarding the contents or
accessibility features of this document to Webmaster@gao.gov.
This is a work of the U.S. government and is not subject to copyright
protection in the United States. It may be reproduced and distributed
in its entirety without further permission from GAO. Because this work
may contain copyrighted images or other material, permission from the
copyright holder may be necessary if you wish to reproduce this
material separately.
United States Government Accountability Office:
GAO:
Report to Congressional Requesters:
January 2014:
Homeowners Insurance:
Multiple Challenges Make Expanding Private Coverage Difficult:
GAO-14-179:
GAO Highlights:
Highlights of GAO-14-179, a report to congressional requesters.
Why GAO Did This Study:
Homeowners insurance protects against a range of perils, but policies
do not insure against all risks. Owners whose homes are damaged by
natural and other disasters not covered by their insurance can be
exposed to serious financial losses. Federal and state initiatives
provide some assistance for catastrophes, which can involve
significant taxpayer expense. With coastal populations growing and the
possibility of more frequent and severe weather, more homeowners could
experience heavy losses not covered by homeowners insurance, putting
increasing financial pressure on government programs and thus on
taxpayers.
GAO was asked to study the possibility of private insurers providing
more comprehensive insurance. This report addresses (1) what perils
homeowners policies typically cover and exclude, (2) how exclusions
impact homeowners and taxpayers and the potential benefits of more
comprehensive coverage, and (3) what additional perils insurers might
be willing to cover and what challenges are associated with expanding
policies. GAO reviewed homeowners insurance policies and conducted
interviews with the National Association of Insurance Commissioners,
other industry organizations, consumer advocates, and risk experts,
among others.
GAO requested comments on a draft of this report from the Federal
Insurance Office and the National Association of Insurance
Commissioners. Both provided technical comments which we incorporated
into the report as appropriate.
What GAO Found:
Homeowners insurance policies typically protect homes, garages and
other structures, and personal belongings from damage caused by perils
such as fire, hail, lightning, explosion, and theft, among others. The
insurance industry considers these perils insurable because they are
accidental, predictable, and do not involve catastrophic losses. These
policies also typically exclude losses from a number of perils,
including disasters caused by floods, earthquakes, and war. Industry
officials said that such events are difficult to predict and involve
extensive losses that are a challenge for private insurers to cover.
Insurers also exclude losses from defective products, which industry
participants said could be addressed by manufacturer warranties and
commercial general liability insurance. Intentional losses; damage
from wear, tear, or neglect; and losses caused simultaneously by
covered and uncovered perils, such as wind (covered) and flood
(uncovered) during a hurricane are also generally excluded.
Policy exclusions can impact homeowners, communities, and state and
federal governments. When excluded losses occur, they can create
significant costs for homeowners to repair homes and replace
possessions. Wide-scale catastrophes can also cause shortages of
building materials and contractors that delay reconstruction and
substantially increase the costs of repairing homes. When damage to
properties caused by excluded losses is not repaired, affected
communities may experience blight and face reduced tax revenue. When
federal and state governments have stepped in to cover what private
insurers exclude, taxpayers may face a significant expense. In
addition to federal disaster assistance, the National Flood Insurance
Program (NFIP) paid more than $7 billion in claims after Superstorm
Sandy. In Florida, insurers and policyholders can be assessed extra
charges to help pay for state efforts to cover wind damage where it is
not covered by insurers. Industry participants suggested that expanded
private coverage could provide additional protection for homeowners
and reduce reliance on government programs, but the resulting policy
premiums would likely be prohibitively expensive for many homeowners.
Multiple factors make expanding private coverage challenging and
several conditions would need to be addressed for insurers to offer
more comprehensive insurance. A main challenge is that expanded
coverage would have higher costs, potentially limiting consumer
demand. Even if insurers charged higher rates that were based on risk,
the severity and unpredictability of catastrophic losses could still
jeopardize insurers’ solvency. Some industry participants said that
insurers and others are discussing possibilities for expanding private
homeowners coverage, with a focus on risk-based premiums, mitigation
efforts, effective building codes, and sound land use policies. The
challenging mix of financial risk, political and regulatory issues,
policy cost, and consumer demand has thus far prevented private sector
insurers in the U.S. from offering flood insurance to homeowners, let
alone more comprehensive or all-perils policies. Because of this mix
of factors, some in the insurance industry have suggested that a
continuing financial role by federal and possibly state governments
may be required, and that ensuring a response to the impact of
disasters and other perils will require the cooperation and resources
of government, homeowners, and insurers, as well as balance in the
assumption of risk and cost by each of these parties.
View [hyperlink, http://www.gao.gov/products/GAO-14-179]. For more
information, contact Alicia Puente Cackley at (202) 512-8678 or
Cackleya@gao.gov.
[End of section]
Contents:
Letter:
Background:
Policies Cover and Exclude Various Perils Based on Policy Provisions
and Other Factors:
Policy Exclusion Impacts Could Be Reduced by Expanding Homeowner
Coverage, but Premiums Would Likely Increase:
Multiple Challenges Make Expanding Private Coverage Difficult:
Agency Comments:
Appendix I: Objectives, Scope, and Methodology:
Appendix II: Information on the National Flood Insurance Program:
Appendix III: Information on the Citizens Property Insurance
Corporation:
Appendix IV: Information on the California Earthquake Authority:
Appendix V: GAO Contact and Staff Acknowledgments:
Tables:
Table 1: Types of Homeowners Insurance Policies for Single-Family
Homes:
Table 2: Perils Covered for Personal Property in the HO-3:
Table 3: Perils Listed in the Exclusions Section of the HO-3:
Table 4: Other Excluded Perils for Dwellings and Other Structures
Listed in the HO-3:
Figures:
Figure 1: Damage Due to Floods:
Figure 2: Damage Due to Sinkholes:
Figure 3: Selected NFIP Flood Loss and Payment Information, 2005 to
2012:
Abbreviations:
CEA: California Earthquake Authority:
FAIR: Fair Access to Insurance Requirements:
FEMA: Federal Emergency Management Agency:
FHCF: Florida Hurricane Catastrophe Fund:
FWUA: Florida Windstorm Underwriting Association:
IHP: Individuals and Households Program:
III: Insurance Information Institute:
ISO: Insurance Services Office:
JUA: Florida Residential Property and Casualty Joint Underwriting
Association:
NAIC: National Association of Insurance Commissioners:
NFIP: National Flood Insurance Program:
[End of section]
United States Government Accountability Office:
GAO:
441 G St. N.W.
Washington, DC 20548:
January 30, 2014:
Congressional Requesters:
Homeowners in the United States are exposed to a wide range of
disasters, including hurricanes, earthquakes, floods, and wildfires,
and may also experience losses from lightning, hail, and fire, among
other perils.[Footnote 1] When these and other catastrophes occur,
they not only devastate individuals and communities by destroying
homes and other possessions, but also have a significant financial
impact on homeowners, insurers, and state and federal governments.
Superstorm Sandy, for example, caused over $18 billion in privately
insured property losses, according to industry estimates, and the
Federal Emergency Management Agency (FEMA) has paid more than $7
billion in claims through the National Flood Insurance Program (NFIP).
At the same time, the population of coastal states facing possible
weather risks such as floods and hurricanes is growing. As of 2010,
approximately 39 percent of the nation's total population,
approximately 123 million people, lived in coastal counties, a 39
percent increase since 1970.[Footnote 2] As of 2012, properties in
hurricane-prone areas on the coast had an insured value of about $15
trillion, with Florida, New York, and Texas having the greatest risk
exposure. In addition to floods and hurricanes, some states such as
California face risks such as earthquakes and wildfires while Florida
faces risks from sinkholes. With more people moving to coastal areas,
the possibility of more frequent and severe weather could impact the
ability of homeowners and insurers to protect homes and other
property. These and other risks underscore the importance of insurance
to help protect homes and property from various hazards. Homeowners
insurance, however, does not cover all types of perils and some
homeowners may not clearly understand what protection their policy
includes and excludes until after an event occurs. Homeowners count on
insurance to help rebuild their lives and minimize financial burdens
and may suffer severe losses depending on the type of peril and the
coverage offered in their policies.
In light of recent concerns about homeowners' ability to protect their
assets, GAO was asked to examine issues associated with the
possibility of more comprehensive homeowners insurance. This report
addresses (1) the perils homeowners policies typically cover and
exclude; (2) the impact of exclusions on homeowners, communities, and
taxpayers and the potential benefits of more comprehensive coverage;
and (3) the additional perils insurers might be willing to cover and
the challenges associated with offering expanded coverage. To do this
work, we reviewed a standard homeowners policy from the insurance
industry and policies from select property/casualty insurers that were
chosen by market share based on premiums written and participation in
different geographic markets. We also interviewed insurance industry
association officials, consumer advocates, and academic experts.
Further, we interviewed selected state insurance regulators from
states that experience major perils such as floods, hurricanes, and
earthquakes, among others.[Footnote 3] Finally, we obtained
information from a panel of insurance experts who participated in a
roundtable discussion on issues associated with private insurers'
willingness and ability to cover floods and other natural
catastrophes. We discuss our scope and methodology in more detail in
appendix I.
We conducted this performance audit from December 2012 to January 2014
in accordance with generally accepted government auditing standards.
Those standards require that we plan and perform the audit to obtain
sufficient, appropriate evidence to provide a reasonable basis for our
findings and conclusions based on our audit objectives. We believe
that the evidence obtained provides a reasonable basis for our
findings and conclusions based on our audit objectives.
Background:
Homeowners Insurance Policies:
Homeowners insurance provides consumers with financial protection
against unexpected losses. Most homeowners policies provide a package
of coverage that protects against damage to different types of
property and liability for injuries and property damage policyholders
cause to others. The following are the main types of coverage:
* Dwelling. Pays for damage to a house and to attached structures,
including plumbing, electrical wiring, heating, and permanently
installed air-conditioning systems.
* Other structures. Pays for damage to fences, tool sheds,
freestanding garages, guest cottages, and other structures not
attached to the dwelling.
* Personal property. Pays for the value of personal possessions,
including furniture, electronics, appliances, and clothing damaged or
lost even when they are not on the subject property--for instance,
when they are in an off-site storage locker or with a child at college.
* Loss of use. Pays some additional living expenses while a home is
being repaired.[Footnote 4]
* Personal liability. Pays for financial loss from lawsuits for
injuries or damages to someone else.
* Medical payments. Pays medical bills for people hurt on the property
or by a pet.[Footnote 5]
Homeowners can purchase several types of insurance policies. These
policies differ based on the perils they cover (see table 1). For
example, named perils policies insure against losses caused by perils
that are specifically listed in the policies. Open peril policies are
broader policies that insure against losses caused by all perils,
except those that are specifically excluded. However, according to
industry participants with whom we spoke, currently no homeowners
policies are available that cover every possible peril a homeowner
could face.
Table 1: Types of Homeowners Insurance Policies for Single-Family
Homes:
Policy type: HO-2: Broad Policy;
Description of policy: A named peril policy, it covers the dwelling
and personal property against 16 perils listed in the policy.
Policy type: HO-3: Special Policy;
Description of policy: The most commonly written policy, it is a
combination of a named peril policy and an open peril policy. It
covers the dwelling against all perils except those specifically
excluded (such as flood and earthquake) and covers personal property
against 16 named perils.
Policy type: HO-5: Comprehensive Policy;
Description of policy: More comprehensive than the HO-3, it is an open
peril policy that covers the dwelling and personal property against
all perils, except those that are specifically excluded (such as flood
and earthquake).
Policy type: HO-8: Modified Coverage Policy;
Description of policy: A named peril policy, it is designed for older
homes, where the cost to replace is greater than the market value.
Source: Insurance Services Office (ISO), National Association of
Insurance Commissioners, and Insurance Information Institute.
Note: These policy types are examples of homeowners insurance policies
developed by the ISO, which is a provider of data and analytics for
the risk management industry, including property/casualty insurers.
ISO has developed other policy types not included in this table, as
have other companies.
[End of table]
In addition to different policy types, homeowners may choose between
three different levels of coverage for their homeowners policies.
[Footnote 6] These options are:
* Actual cash value. This type of coverage pays to replace the home or
possessions after deducting for depreciation. Value is determined by
taking into consideration the age of the home and wear and tear.
[Footnote 7] This level of coverage may not be enough to fully repair
or replace the damage.
* Replacement cost. This type of coverage pays the cost of rebuilding
or repairing the home or replacing possessions, up to the coverage
limit, without a deduction for depreciation. It allows for the repair
or rebuilding of the home by using materials of similar kind and
quality.
* Guaranteed (or extended) replacement cost. This option is the most
comprehensive and expensive. It pays a certain percentage, typically
20 to 25 percent, over the coverage limit to rebuild the home in the
event that materials and labor costs increase as a result of a
widespread disaster.[Footnote 8]
The HO-2, HO-3, and HO-5 policies typically provide replacement cost
coverage on the structures.[Footnote 9] Contents coverage under
homeowner policies is typically provided on an actual cash value
basis, unless the replacement cost option is purchased. The HO-8
typically provides coverage for older homes on an actual cash value
basis. Full replacement cost policies may not be available for some
older homes.
Cost of Insurance to Homeowners:
Several factors affect the premiums consumers pay for their homeowners
policies, including the type and characteristics of the home. For
example, homes that are primarily brick or masonry typically have
lower premiums than wood frame homes, and older homes and homes in
poor condition tend to have higher premiums than newer homes and homes
in good condition. A homeowner's characteristics, such as a history of
filing claims, and choices, such as the dollar amount of coverage
selected, may also impact the premium cost. Other factors that impact
the premium cost include the degree of exposure to catastrophes (such
as hurricanes or earthquakes), the type of protection devices in the
home (such as sprinkler or security systems), and the type of
structures on the property (such as swimming pools or trampolines).
In addition to paying premiums for their insurance policies,
homeowners generally have to pay a deductible when they file a claim--
that is, an amount of money a policyholder must pay before an
insurance policy will pay for a loss. The deductible applies to both
home and personal property coverage and is paid on each claim. Higher
deductibles generally mean lower policy premiums. In some locations,
there are also catastrophe deductibles that a homeowner must pay when
a major natural disaster occurs. They are expressed as a percentage of
a claim instead of an insured amount.
State Regulation of Insurance:
Insurance in the United States is primarily regulated at the state
level.[Footnote 10] State insurance regulators are responsible for
enforcing state insurance laws and regulations, including through the
licensing of agents, the review of insurance products and premium
rates, and the examination of insurers' financial solvency and market
conduct. The insurance regulators of the 50 states, the District of
Columbia, and the U.S. territories created and govern the National
Association of Insurance Commissioners (NAIC), which is the standard-
setting and regulatory support organization for the U.S. insurance
industry. Through the NAIC, state insurance regulators establish
standards and best practices, conduct peer review, and coordinate
their regulatory oversight. NAIC staff supports these efforts and
represents the collective views of state regulators domestically and
internationally. NAIC members, together with the central resources of
the NAIC, form the national system of state-based regulation in the
United States.
Risk Management by Insurers:
Insurers assume some financial risk when writing policies, but also
employ various strategies to manage risk so they can earn profits,
limit potential financial exposures, and build the capital needed to
pay claims. For example, insurance companies establish underwriting
standards, such as refusing to insure customers who pose unacceptable
levels of risk, or limiting coverage in particular geographic areas.
Insurance companies may also purchase reinsurance, or insurance for
insurance companies, to cover specific portions of their financial
risk. For catastrophic losses, insurers may also sell financial
instruments such as catastrophe bonds. Reinsurers use similar
strategies to manage their risks.
Both insurers and reinsurers must also predict the frequency and
severity of insured losses with some reliability to best manage
financial risk. In some cases, these events can be fairly predictable.
For example, the incidence of most automobile claims is predictable,
and losses generally do not occur to large numbers of policyholders at
the same time. However, some infrequent events, such as hurricanes,
are so severe that they pose unique challenges for insurers and
reinsurers. The unpredictability and sheer size of these types of
events can result in substantial losses that deplete insurers' and
reinsurers' capital. If a company believes that the risk of loss is
unacceptably high given the rate that can be charged, it may decide
not to offer coverage.
Government Involvement in Homeowners Insurance:
If the private sector will not insure a particular type of risk, the
public sector may create markets to ensure the availability of
insurance. For example, several states have established Fair Access to
Insurance Requirements (FAIR) plans, which pool resources from
insurers doing business in the state to make property insurance
available to property owners who cannot obtain coverage in the private
insurance market, or cannot do so at an affordable rate. In addition,
some states have established windstorm insurance pools that pool
resources from private insurers to make insurance for wind risks
available to property owners who cannot obtain it in the private
insurance market.[Footnote 11]
At the federal level, Congress established NFIP in 1968 to provide
flood coverage to homeowners where voluntary markets do not readily
exist.[Footnote 12] FEMA is responsible for the oversight and
management of NFIP.[Footnote 13] Designed to help reduce the cost of
federal assistance after floods, NFIP may be the sole source of
insurance to some residents of flood-prone areas. Participating
communities are required to adopt and enforce floodplain management
regulations, thereby reducing the risks of flooding and the costs of
repairing flood damage. Under the program, the federal government
assumes the liability for covered losses and sets premium rates and
coverage limitations. Like private insurance companies, federal and
state government insurance programs also collect premiums, but their
rates do not always reflect the risks that the programs assume, in
part because they are designed to keep insurance affordable for most
homeowners.[Footnote 14]
Policies Cover and Exclude Various Perils Based on Policy Provisions
and Other Factors:
Homeowners policies provide protections against a number of perils
that can impact individuals and families. Policies, however, do not
protect against all perils that homeowners could face. Various
sections of a homeowners insurance policy outline perils covered and
those the policy excludes. Policy provisions and other factors, such
as location, can impact the coverage insurers offer homeowners.
Homeowners Policies Typically Cover a Range of Perils:
Homeowners insurance policies typically cover a range of perils and
are critical to providing financial protection against losses such as
fire and theft, among others. According to many industry participants,
the Insurance Services Office's (ISO) HO-3 policy is the most commonly
purchased homeowners policy and outlines the typical coverage and
exclusions found in most homeowners policies.[Footnote 15] The HO-3
covers a person's dwelling or home and other structures--such as
detached garage, or shed--against all perils except those specifically
excluded. This is commonly known as "open perils" coverage. For
possessions, or personal property, the HO-3 covers only those perils
listed in the policy, typically the 16 outlined below in table 2.
Insurers refer to this kind of coverage as "named peril" coverage.
Table 2: Perils Covered for Personal Property in the HO-3:
1. Fire or lightning;
2. Windstorm or hail[A];
3. Explosion;
4. Riot or civil commotion;
5. Aircraft, including self-propelled missiles and spacecraft;
6. Vehicles;
7. Smoke[B];
8. Vandalism or malicious mischief;
9. Theft;
10. Falling objects[C];
11. Weight of ice, snow, or sleet;
12. Accidental discharge or overflow of water or steam from within a
plumbing, heating, air conditioning, or automatic fire-protective
sprinkler system or from within a household appliance (with certain
restrictions);
13. Sudden and accidental tearing apart, cracking, burning, or bulging
of a steam or hot water heating, air conditioning, or automatic fire
protective sprinkler system, or an appliance for heating water[D];
14. Freezing of a plumbing, heating, air conditioning, or automatic
fire-protective sprinkler system or a household appliance if
reasonable care has been used to maintain heat in the building or shut
off the water supply and drain all systems and appliances of water[E];
15. Sudden and accidental damage from artificially generated
electrical current (with certain restrictions);
16. Volcanic eruption, but not earthquake, land shock waves, or
tremors.
Source: ISO's HO-3 policy.
[A] Some states have established windstorm insurance pools as private
insurers sometimes exclude coverage for wind-related damage. In
addition, this specifically excludes from coverage damage caused by
rain, snow, sleet, sand, and dust unless the wind or hail damage to
the building permits those perils to enter.
[B] This only applies if it is sudden and accidental damage.
[C] This only covers property in a building if a building is also
damaged by the falling object. However, damage to the fallen object
itself is not covered.
[D] This does not include losses caused by or resulting from freezing.
[E] This does not include a sump, sump pump, roof drains, gutters,
downspout, or other similar equipment.
[End of table]
Private insurers determine which perils are insurable risks on the
basis of certain characteristics or criteria of the losses associated
with them, including the following:[Footnote 16]
* Losses that are definite and measurable. The loss should be definite
or determinate in time, place, and cause, and the insurer must be
capable of setting a dollar value on the amount of the loss.
* Losses that are sudden, random, and accidental. The loss must result
from chance and not be something that is certain to happen. If a
future loss were sure to occur, coverage would have to be priced at
the full value of the loss plus an additional amount for the expenses
incurred.
* Losses that are not catastrophic. The losses should not affect a
very large percentage of an insurance company's policyholders at the
same time in, for example, a limited geographic area.[Footnote 17] The
losses should be independent of each other in order to spread and
minimize risk. Additionally, the peril should not be so catastrophic
that the insurer would be unable to charge a sufficient premium to
cover the exposure.
* Losses for which the law of large numbers applies. There must be a
sufficiently large number of homogeneous units exposed to random
losses, both historically and prospectively, to make the future losses
reasonably predictable. This principle works best when there are many
losses with similar characteristics spread across a large group. The
greater the experience with losses, the better insurers can estimate
both the frequency and severity of future losses.
When these criteria are generally satisfied, the insurer can add other
expenses and profits to the expected losses and determine a price that
is appropriate for the risk. Insurers may still decide to offer
insurance for risks that deviate from these ideal characteristics.
However, as one or more deviations occur, the ability of the insurer
to estimate future losses decreases, the risk increases, and the
insurer's capital is more exposed to inadequate prices for the
coverage that the insurer offers.
Homeowners Policies Also Exclude Other Perils:
Despite covering a range of perils, insurers also exclude a number of
perils. Insurance companies may determine that a peril is uninsurable
and exclude it from an insurance policy by inserting a provision that
excludes coverage. These provisions can be located in different
sections of a homeowners policy. For example, the HO-3 contains a
section titled "Exclusions," but other policy provisions that exclude
coverage are located elsewhere. Table 3 lists typical perils excluded
under this section.
Table 3: Perils Listed in the Exclusions Section of the HO-3:
1. Ordinance or law (such as an ordinance or law requiring or
regulating the construction, demolition, remodeling, renovation, or
repair of property);
2. Earth movement (such as earthquakes, landslides, mudslides, or
sinkholes)[A];
3. Water (including flood, waves, water which backs up through sewers
or drains or overflows or is otherwise discharged from a sump, sump
pump or related equipment, or water below the surface of the
ground)[B];
4. Power failure;
5. Neglect (failure to use reasonable means to save and preserve
property at and after the time of loss);
6. War;
7. Nuclear hazard;
8. Intentional loss (an action the insured commits or conspirers to
commit with intent to cause loss);
9. Government action (such as the destruction, confiscation, or
seizure of property by order of any governmental or public
authority)[C];
10. Weather conditions (only if the weather conditions contribute in
any way with a cause or event excluded above to produce the loss)[D];
11. Acts or decisions, including the failure to act or decide, of any
person, group, organization, or governmental body[D];
12. Faulty, inadequate or defective: planning, zoning, development,
surveying, siting; design, specifications, workmanship, repair,
construction, renovation, remodeling, grading, compaction; materials
used in repair, construction, renovation, or remodeling; or
maintenance;[D].
Source: ISO's HO-3 policy.
[A] A direct loss by fire, explosion, or theft resulting from an earth
movement is covered.
[B] A direct loss by fire, explosion, or theft resulting from water
activity is covered.
[C] This excludes acts taken by the government at a time of a fire to
prevent spread of the fire if the loss caused by the fire is covered
under the policy.
[D] These three items are specific to dwellings and other structures.
[End of table]
Other policy provisions that exclude coverage are located under
"Perils Insured Against" in the HO-3 policy. Under this section, which
applies to the dwelling and other structures, but not to personal
property, damage caused by certain perils will not be covered (see
table 4).
Table 4: Other Excluded Perils for Dwellings and Other Structures
Listed in the HO-3:
1. Collapse (including abrupt falling down or caving in; loss of
structural integrity; or any cracking, bulging, sagging, bending,
shrinking, leaning, settling, or expansions related to the falling or
loss of structural integrity);
17. Freezing of a plumbing, heating, air conditioning, or automatic
fire-protective system or of a household appliance, or by discharge,
leakage, or overflow from within the system or appliance caused by
freezing, unless reasonable care has been used to maintain heat in the
building or shut off the water supply and drain all systems and
appliances of water[A];
18. Freezing, thawing, pressure, or weight of water or ice, whether
driven by wind or not, to a fence, pavement, patio, swimming pool, and
other listed structures;
19. Theft in or to a dwelling under construction, or of materials and
supplies for use in the construction until the dwelling is finished and
occupied;
20. Vandalism and malicious mischief and any ensuing loss caused by
any intentional and wrongful act committed in the course of the
vandalism or malicious mischief, if the dwelling has been vacant for
more than 60 consecutive days immediately before the loss;
21. Mold, fungus, or wet rot (except under certain circumstances); or;
22. Wear and tear, marring, deterioration; mechanical breakdown, latent
defect, inherent vice, or any quality in property that causes it to
damage or destroy itself; smog, rust, or other corrosion, or dry rot;
smoke from agricultural smudging or industrial operations; discharge,
dispersal, seepage, migration, release or escape of pollutants (except
under certain circumstances); settling, shrinking, bulging or
expansion, including resultant cracking, of bulkheads, pavements,
patios, footings, foundations, walls, floors, roofs, or ceilings;
birds, rodents, or insects; nesting or infestation, or discharge or
release of waste products or secretions, by any animals; or animals
owned or kept by an insured.
Source: ISO's HO-3 policy.
[A] The term plumbing does not include a sump, sump pump, roof drain,
gutter, downspout, or similar equipment.
[End of table]
Insurers exclude these perils from homeowners policies for various
reasons. According to some industry participants, some perils are
excluded because they do not meet the criteria for insurable risks.
For example, perils that result in catastrophic losses are generally
infrequent, high-impact events that are difficult to predict and
measure. The chances of these events occurring are difficult to
calculate, and the losses can be so large and simultaneously impact so
many homeowners that they could jeopardize a company's solvency
because the insurer may not have sufficient capital to pay out the
large number of claims. Examples of these types of risks include
flood, earthquake, war, and nuclear hazard.
Other risks are excluded because they could raise moral hazard issues
if they were covered and because they are not accidental. Moral hazard
is an increase in the probability of loss caused by the policyholder's
behavior--for example, intentional loss, neglect, deterioration, and
lack of maintenance. According to some industry participants, if these
risks were covered, homeowners could, for example, neglect their roofs
or not address mold problems and then file claims for replacement and
remediation. Further they noted that these types of risks also fall
outside the realm of insurance because they are not sudden or
accidental and are generally unpredictable.
Some industry participants also said that homeowners policies list
defective products as exclusions for a couple of reasons. First, they
said that defective products are listed as exclusions because insurers
would find it difficult and impractical to evaluate the wide range of
manufactured products to determine the likelihood and extent of
defects and price this risk for policies accordingly. Second, they
suggested that manufacturers are responsible for defects in their
products, and product warranties and commercial general liability
insurance can help affected homeowners.[Footnote 18] For example, some
homeowners affected by defective drywall may receive compensation from
settlements partly funded by commercial general liability insurance
policies held by companies responsible for the distribution or
installation of defective drywall.[Footnote 19] Additionally, some
homeowners impacted by defective drywall have filed insurance claims
through their homeowners' insurance policies, and litigation in
multiple states will determine the extent to which coverage for this
drywall is covered by homeowners insurance.
Coverage Depends on Several Factors, Including Policy Provisions and
Location:
Certain provisions found in homeowners policies can also affect
coverage. Some industry participants cited as an example
anticoncurrent causation clauses. For example, under these clauses, if
damage is simultaneously caused by both an excluded peril (such as
flood) and a covered peril (wind), coverage is excluded for that loss.
They noted that these clauses presented a particular challenge for
owners of coastal properties when hurricanes occurred. Cases
challenging the enforceability of the anticoncurrent clause arose
after the 2005 hurricane season because damage to properties may have
resulted from a combination of high winds and flooding. According to
reports, this clause may similarly become an issue for homeowners in
the aftermath of Superstorm Sandy. In addition to the anticoncurrent
causation clause, policies may also contain conditions that
policyholders are required to comply with in order to maintain
coverage. Under the HO-3 policy, for example, homeowners must provide
prompt notice to their insurance company or agent following a loss and
are also required to protect property from further damage once a loss
has occurred. Failure to comply with these types of requirements may
result in a loss of coverage.
In addition, the facts and conditions surrounding the loss event--
including the cause of the damages and court decisions--may also
impact coverage. For example, according to some industry participants,
an HO-3 policy typically excludes mold damage. However, mold damage
that is hidden within walls or ceilings, or beneath the floors of a
structure, that results from the accidental discharge or overflow of
water or steam from within a plumbing or heating system may be
covered, among other things. Further, the HO-3 policy typically covers
theft of personal property from a home. However, theft in a home that
is under construction, for example, may not be covered. Court
decisions may also impact coverage when disputes between policyholders
and insurers end up in litigation, something that can take time to
resolve. Ultimately, whether a loss is covered in these cases may
depend on how the court interprets the policy. Following Hurricane
Katrina, for example, some coverage disputes raised the question of
whether a policy's flood exclusion language clearly excluded a water-
related event, such as storm surge, that caused the damage at issue.
[Footnote 20]
Coverage may also depend on where homeowners live and whether they
have purchased endorsements--optional coverage that alters a policy's
terms and conditions that can be added at an additional cost--or have
other insurance policies.[Footnote 21] For example, homeowners
policies typically do not cover flood damage, but flood insurance may
be available through NFIP, depending on where a home is located.
[Footnote 22] Additionally, private insurers sometimes exclude
coverage for wind-related damage to properties in coastal areas,
requiring policyholders to either pay an additional premium for wind-
related risks or purchase a supplemental policy for wind-related
damages. In such cases, this supplemental coverage is typically
provided by a state-sponsored wind insurance pool that has been
created to address shortages in the availability of private insurance
for wind-related risks. In Florida, for example, coverage is provided
through its state insurance entity, the Citizens Property Insurance
Corporation (Citizens).[Footnote 23]
Earthquakes and sinkholes are two other perils that are also typically
excluded from homeowners policies but that may be covered by a
separate policy or an endorsement in some states. In California, for
example, state law requires all residential property insurance
companies to offer earthquake coverage to homeowners. In offering
earthquake coverage, insurance companies can manage the risk
themselves, contract with an affiliated or non-affiliated insurer, or
become members of the California Earthquake Authority (CEA), a
publicly-managed but privately funded entity that offers residential
earthquake policies.[Footnote 24] Similarly, sinkhole coverage is
typically excluded under the earth movement exclusion found in
standard homeowners policies, but in Florida, the state requires
insurers to offer catastrophic ground cover collapse, which is a
narrow form of coverage that protects against the total loss of a home
due to sinkholes. Florida does not require any other sinkhole coverage
to be included in homeowners policies, but insurers are required to
offer additional sinkhole coverage. Homeowners in some states may also
be able to purchase coverage through endorsements for other perils
typically excluded from homeowners policies, including ordinance and
law, sewer or drain backup, and mold.
Policy Exclusion Impacts Could Be Reduced by Expanding Homeowner
Coverage, but Premiums Would Likely Increase:
Losses due to policy exclusions can financially impact homeowners by
causing significant out-of-pocket expenses. Communities can also be
impacted by perils excluded from homeowners policies, particularly if
unrepaired homes result in blight and affect whether others in a
neighborhood rebuild. Expanded coverage could offer homeowners more
protection, potentially reducing the cost of repairs that homeowners
would have to cover with their own resources. However, policies that
offered expanded coverage would likely be much more expensive than
current policies.
Policy Exclusions Can Impact Homeowners and Communities:
According to industry participants, the biggest and most significant
impact on homeowners from policy exclusions is out-of-pocket costs to
cover losses. If a loss occurs that is excluded by insurers, and
coverage is not available through an endorsement or federal or state
program, homeowners will have to use their own resources to rebuild
and replace what they had. Some industry participants said that
excluded losses can cause significant damage to homes and possessions.
In some cases, homeowners may not have the means to rebuild after a
disaster. Figures 1 and 2 illustrate the damage caused by two perils,
floods and sinkholes, which are typically excluded from homeowners
policies.
Figure 1: Damage Due to Floods:
[Refer to PDF for image: 2 photographs]
Residential flooding examples:
Above: Waynesville, MO.
Right: Greenville, NC.
Source: FEMA.
[End of figure]
Figure 2: Damage Due to Sinkholes:
[Refer to PDF for image: 2 photographs]
Sinkholes may range widely in terms of size and impact. The sinkhole
in Winter Park, FL (above left) was eventually stabilized and turned
into an urban lake by the city. In Bulan, KY (above right), a
residential property is in danger of collapsing due to a sinkhole.
Source: National Oceanic and Atmospheric Administration
(NOAA)/National Geophysical Data Center (NGDC), A.S. Navory (left
photo); FEMA (right photo).
[End of figure]
In addition to paying for excluded losses on their own, one industry
organization said that homeowners may have to pay additional out-of-
pocket expenses for temporary housing or a car rental that may not be
covered by a homeowners policy.[Footnote 25] When impacted by a
disaster, homeowners may need these types of rentals for many months,
and they can be costly.
Further, industry participants said that rebuilding after a disaster
can present additional challenges for homeowners. One industry
organization said that catastrophes can cause shortages of building
contractors and building supplies that can delay reconstruction. This
phenomenon is known as "demand surge." In these circumstances, the
short-term costs of repairing and rebuilding homes can escalate
substantially. Another industry participant noted that homeowners can
also have their policies canceled if home repairs are not adequate.
Disasters and excluded perils also sometimes highlight differences
between consumers' expectations for insurance and actual policy
coverage, resulting in added frustrations for homeowners. According to
some industry participants with whom we spoke, some consumers may not
learn what their policy actually covers until losses occur. For
example, one industry association recalled that some consumers who had
recent problems with drywall sourced from China filed insurance claims
through their homeowners policies. As noted earlier, litigation in
multiple states may determine the extent to which homeowners insurance
applies to losses associated with this drywall.
Others may not understand their coverage well enough to know what is
covered, what is excluded, and what loss events and circumstances
might result in paid, partially paid, or denied claims. For example,
according to a 2013 survey conducted by one industry organization,
many homeowners mistakenly believe that their homeowners policies
cover flooding from a hurricane.[Footnote 26] According to some
industry participants, homeowners policies can be difficult to
understand because they often are long, technical, legal documents.
One consumer advocate we spoke with suggested that few tools exist to
help consumers understand their coverage, and noted that even though
some states have policy readability requirements and disclosure rules
about coverage and exclusions, these measures do not help consumers
understand their policies. Other participants said that many
homeowners do not read their policies or study them closely.
Additional analysis would be needed to determine to what extent
readability requirements, disclosure rules, or other factors impact
homeowners' ability to understand their policies.
In addition to the devastation disasters may cause homeowners,
neighborhoods and communities can also be impacted if some homeowners
are unable to rebuild because they do not have coverage for a loss.
Damaged homes that are not rebuilt can result in blight and affect the
willingness of others to rebuild. A neighborhood where property is
vacant or deteriorated will also likely impact the property value of
surrounding homes. In addition, when some homeowners do not rebuild,
communities may experience a diminution of the tax base. Collecting
less in property taxes can impact the ability of communities to fund
schools, libraries, parks, and roads, among other uses.
Government Coverage of Excluded Losses Can Involve Costs and Risks to
Taxpayers:
Both the federal and some state governments offer disaster assistance
and other programs to help homeowners with some of the perils that
private insurers do not cover, and this support can rely on taxpayer
as well as policyholder resources. At the federal level, the
government provides a range of assistance to individuals after major
disasters. This assistance is generally made available after the
President issues a disaster declaration under the authority of the
Robert T. Stafford Disaster Relief and Emergency Assistance Act (the
Stafford Act), and is administered by various federal agencies through
various programs.[Footnote 27] FEMA, for example, provides disaster
relief and recovery assistance to individual citizens through its
Individuals and Households Program (IHP), which is intended to provide
money and services, including assistance in repairing and replacing
damaged homes, to people in a disaster area when losses are not
generally covered by insurance.[Footnote 28] The growing number of
major disaster declarations has contributed to an increase in federal
expenditures for disaster assistance, however. For example, through
January 31, 2012, FEMA obligated $80.3 billion in disaster relief,
including $23.5 billion in individual assistance, for 539 disasters
declared during fiscal years 2004 through 2011.[Footnote 29] More
recently, Superstorm Sandy has also involved significant federal
disaster assistance. In January 2013, Congress passed and the
President signed the Disaster Relief Appropriations Act of 2013 and
the Sandy Recovery Improvement Act of 2013, which provided about $50
billion in federal assistance to support rebuilding efforts.[Footnote
30]
In addition to providing disaster assistance, the federal government
also offers flood insurance to homeowners through NFIP, a program that
involves significant costs for the government and ultimately for
taxpayers. According to FEMA information, as of September 2013, there
were 5.6 million flood insurance policies in force in almost 22,000
communities across the United States. In years when losses were high,
NFIP has used statutory authority to borrow funds from the Department
of the Treasury (Treasury) to pay claims and keep the program solvent.
For example, NFIP borrowed $16.8 billion from Treasury to cover claims
for the 2005 hurricanes--primarily Hurricane Katrina--and received
additional borrowing authority in the amount of $9.7 billion following
Superstorm Sandy in 2012. As of October 2013, NFIP owed Treasury $24
billion. NFIP is generally expected to cover its claim payments and
operating expenses with the premiums it collects. However, NFIP has
sold some flood insurance policies at subsidized rates to help keep
flood insurance affordable, and these subsidized policies have been a
financial burden on the program because of their relatively high
losses and premium rates that are not actuarially based. As a result,
the annual amount that NFIP collects in both full-risk and subsidized
premiums is generally not enough to cover its operating costs, claim
payments, and principal and interest payments for the debt owed to
Treasury, especially in years of catastrophic flooding, such as
2005.[Footnote 31] This arrangement results in much of the financial
risk of flooding being transferred to the federal government and
ultimately the taxpayer. As shown in figure 3 below, NFIP has handled
a significant number of claims and paid losses for flood events caused
by hurricanes and a superstorm since 2005.[Footnote 32]
Figure 3: Selected NFIP Flood Loss and Payment Information, 2005 to
2012:
[Refer to PDF for image: illustrated table]
Event: Katrina;
Year: 2005;
Number of losses: 167,730
Total claims paid: $16,278,367,593
Average paid loss: $97,051.
Event: Rita;
Year: 2005;
Number of losses: 9,510
Total claims paid: $472,816,662
Average paid loss: $49,718.
Event: Paul;
Year: 2006;
Number of losses: 1,507
Total claims paid: $37,261,864
Average paid loss: $24,726.
Event: Gustav;
Year: 2008;
Number of losses: 4,541
Total claims paid: $112,501,771
Average paid loss: $24,775.
Event: Ike;
Year: 2008;
Number of losses: 46,464
Total claims paid: $2,670,428,882
Average paid loss: $57,473.
Event: Irene;
Year: 2011;
Number of losses: 44,057
Total claims paid: $1,320,880,851
Average paid loss: $29,981.
Event: Sandy;
Year: 2012.
Number of losses: 127,579;
Total claims paid: $7,360,969,215;
Average paid loss: $57,697,
Total:
Number of losses: 401,388
Total claims paid: $28,253,226,838.
Source: FEMA.
[End of figure]
Some states, such as Florida, have created residual insurance pools to
cover what the private market will not, sometimes at a cost to
policyholders and taxpayers across the state.[Footnote 33] In Florida,
Citizens provides homeowners coverage, including for wind damage, for
those who cannot find coverage from private insurers. If Citizens'
funds are depleted by paying claims after a catastrophic event,
Florida law requires that Citizens charge assessments until any
deficits are eliminated. Citizens' policyholders are the first to be
assessed, and if necessary, additional assessments can be levied
against certain private insurance companies, who can then pass the
cost of these assessments on to their policyholders. [Footnote 34]
This ability to levy assessments provides Citizens with resources to
pay claims to policyholders.
Storms in 2004 and 2005, for example, resulted in more than $30
billion in insured damage in Florida. Citizens sustained deficits of
$515 million and $1.8 billion, respectively, in those years. To fund
its 2004 deficit, Citizens assessed insurance companies and surplus
lines policyholders over $515 million in regular assessments.[Footnote
35] To fund the 2005 deficit, the Florida legislature appropriated
$715 million from the Florida general revenue fund, reducing the size
of the regular assessment from $878 million to $163 million. In 2005,
the Florida legislature also directed Citizens to amortize the
collection of the emergency assessment for the remaining $888 million
deficit over a 10-year period, resulting in an emergency assessment
levied beginning in June 2007. According to two industry
organizations, Florida's property/casualty policyholders generally
bear the cost of having Citizens provide coverage to participating
Florida residents, regardless of whether they live inland or on the
coast.
Expanding Private Coverage Could Offer Benefits, but Homeowner
Premiums Would Likely Rise:
If private insurers offered expanded homeowners coverage, homeowners
could see a number of benefits. First, according to some industry
participants homeowners would have more protection because more perils
would be covered under their policy. Second, some industry
participants noted that more comprehensive coverage could lead to less
ambiguity for consumers seeking to understand their policies. Policies
with fewer exclusions and conditions for coverage would be simpler and
more efficient for insurers to write and consumers to understand than
having separate policies for homeowners, flood, and in some states,
wind coverage. Third, some industry participants said that enhanced
coverage could reduce litigation and disputes between policyholders
and insurers over coverage. For example, a policy that offered more
comprehensive coverage could reduce disputes over the anticoncurrent
causation clause, often over whether wind or water caused residential
damage, something some industry participants noted is a particular
challenge for homeowners when hurricanes occur.
Assuming homeowners purchased expanded private coverage without
government subsidies, these policies could also reduce reliance on
federal and state programs.[Footnote 36] According to some industry
participants, if homeowners policies covered flooding, for example,
fewer taxpayer resources may be needed for paying NFIP's claims and
subsidized premiums. In addition to having benefits at the federal
level, greater private coverage could also reduce or eliminate the
need for state-based insurance mechanisms, such as state wind pool
coverage, and the insurer and policyholder assessments they can
involve. Moreover, expanded coverage could encourage more informed
decisions by homeowners. For instance, expanded coverage with more
accurate pricing for risk could provide beneficial information to
consumers on the risk associated with their housing location decisions
and could encourage more consumers to mitigate risks to their property
or to not locate to high-risk areas.
Notwithstanding these potential benefits, expanded coverage would
likely increase insurance premiums for homeowners. According to some
industry participants with whom we spoke, the increase could amount to
several times what some homeowners currently pay. For example, one
industry organization said that a policy that covered flood,
earthquake, sinkholes, and some other perils could cost homeowners
anywhere from three to five times what homeowners pay now, while
another estimated that the cost of a policy that covered nearly all
the currently excluded perils could exceed $15,000 annually. Other
industry participants said the cost for this coverage would be so high
that many homeowners would be unable to afford it. Additionally, FEMA
information on the changes to the cost of flood insurance following
the Biggert-Waters Act and the elimination of some subsidized rates
may further illustrate how costly expanded coverage could potentially
be for some homeowners. According to FEMA information, the cost of a
NFIP policy for a home located in a very high-risk area without a
subsidy could exceed $20,000 in annual premiums for certain
policyholders.[Footnote 37]
Multiple Challenges Make Expanding Private Coverage Difficult:
Several factors make it challenging for private insurers to offer all-
perils homeowners insurance, or even more comprehensive policies.
These include consumer demand for greater coverage and the higher
premiums such coverage would involve, the ability of insurers to
adequately price policies that covered more perils, and the regulatory
challenges associated with getting approval for risk-based rates. A
few industry participants with whom we spoke said that insurers and
others are discussing possibilities for expanding private homeowners
insurance, but cautioned that policy premium rate, affordability, and
other conditions would need to be addressed.
Insurance Cost and Risk Pricing Are Issues for Consumers and Insurers:
Consumer Demand and Incentives:
Higher premiums for more comprehensive homeowners insurance are not
only an affordability challenge for homeowners, they also represent a
key challenge for insurers. Some industry participants said that the
higher premiums required for more comprehensive coverage raises
questions about whether sufficient demand would make expanded coverage
impractical in the private market. Some said that many homeowners try
to keep expenses for insurance as low as possible, citing as evidence
low participation in NFIP, despite federal subsidies. They also
questioned whether consumers would buy much more expensive expanded
coverage even if it were offered by insurers.
Additionally, many industry participants with whom we spoke said that
adverse selection--or the tendency for those who live in places most
prone to risk to be most likely to purchase insurance--could challenge
insurers' ability to expand policy coverage. Insurers manage risk by
charging appropriate rates and diversifying their risk pool. Industry
participants with whom we spoke said that if only riskier households--
for example, those located near the coasts or rivers--were the primary
purchasers of expanded coverage, insurers might end up with an
insurance pool with concentrated risk and policies that could cause
losses that may jeopardize insurers' profitability and solvency.
A requirement that insurers offer and homeowners purchase more
comprehensive coverage may reduce this problem but raises questions
about how such a requirement would be implemented.[Footnote 38]
Further, some questioned whether it would be fair to require those
living in low-risk areas to purchase expanded coverage they may not
need, in effect subsidizing those living in high-risk areas. One
industry organization said that legislative or regulatory attempts to
mandate all-perils coverage could destabilize the insurance
marketplace in certain high-risk areas such as coastal regions and
floodplains. It could also cause private insurers to further limit
their exposures in disaster-prone areas, and some insurers may
withdraw from the market altogether. Industry participants suggested
that offering policies that covered all losses could also raise issues
of moral hazard, or incentivize risky behavior by homeowners. For
example, comprehensive policies may encourage people to locate their
homes in high-risk areas. Others said that higher premiums associated
with more comprehensive policies would send a better signal to
homeowners about the risk associated with their housing location,
something that could prompt homeowners to properly insure their homes
or take steps to mitigate their risk.
Risk Pricing and Claims Processing:
Industry participants said that another important challenge is the
difficulty of pricing catastrophic risks and handling the claims that
they cause. Some industry participants said that accurately modeling
the broader range of risks that more comprehensive policies would
cover was critically important. Having loss data and accurately
modeling risk is necessary for appropriately pricing insurance
policies and for ensuring insurer solvency. Some industry participants
said that because expanded coverage would be new to the private
domestic market, modeling experience would need to be developed over
time and could be challenging, particularly for multiple catastrophic
losses. Others said that insurers might also lack the expertise to
handle claims for perils that were typically excluded, and that it
could take time for insurers and adjusters to develop the expertise to
handle some disaster situations and subsequent claims.
Approval for Risk-based Rates and Insurer Capital Pose Additional
Concerns:
Regulatory Rate Approval:
Industry participants said that insurers could also face critical
regulatory challenges in offering more comprehensive coverage. One
important challenge is that state regulatory approval for the higher
premiums more comprehensive coverage would likely demand is uncertain.
Insurers need to charge risk-based rates that are determined on an
actuarial basis in order to stay solvent and meet their policy
obligations to homeowners. However, some industry participants with
whom we spoke said that getting regulators to approve rates that
insurers determined would be appropriate for certain risks has been
difficult and that getting approval for rates that could be several
times more expensive than those currently in force would be an
important challenge. One regulator, however, said that inability to
charge higher risk-based rates might not be an issue because loss
experience is a critical factor that drives rates. If insurers faced
greater losses by covering more perils, they would likely be able to
justify and gain approval for higher premiums. Industry participants
also said that different state insurance laws and regulations and
different rate-setting and approval processes could make it difficult
for insurers to sell more comprehensive policies with risk-based rates
across states.
Insurer Capital:
Offering coverage for a broader set of perils would also require
insurers to have the capital necessary to pay claims without risking
insolvency. The greater the risk, the more capital insurers need to
hold. Insurers may not be willing to maintain the higher capital
levels needed for insuring against higher risk events if that capital
could be used for other insurance or investment purposes. In addition,
disasters such as floods and earthquakes are relatively infrequent but
often severe events, so that insurers cannot always know how much they
will need in reserves. Industry participants said that the
unpredictability of catastrophes could prevent insurers from
accurately calculating and setting aside the sums necessary to cover
losses. One insurance regulator suggested that even if insurers could
charge rates that reflected the full risk of disasters, they still may
not be able to offer coverage for additional perils.
Several Conditions Would Be Needed for Insurers to Expand Private
Coverage:
For additional coverage to be possible, insurers would need the
ability to conduct actuarial analyses and accurately model risks
involved with greater homeowners coverage. Some industry participants
thought this capability may already exist or could be developed for
floods and earthquakes, the two perils they said hold some promise for
greater private insurer involvement. In order to offer coverage for
flood or other perils, insurers would have to be able to charge risk-
based rates, a critical part of meeting their policy obligations to
consumers and staying solvent, but something that would also raise
concerns about higher premium costs, policy affordability, and
consumer demand.
Two industry organizations said that mitigation efforts, effective
building codes, and sound land-use policies could also help reduce
risks from natural catastrophes. Another highlighted how building
codes set by states can differ, which can lead to inconsistencies that
make it difficult to ensure properties can withstand loss events.
Others said that it is important for the insurance industry to
encourage consumers to become better informed about their risks and
insurance so that they could take available steps depending on where
they live to mitigate losses.
The catastrophic nature of flood and other natural catastrophe losses,
according to industry participants, may require a continuing role for
federal and state government in financing coverage. We recently
reported on strategies to encourage greater private-sector involvement
in flood insurance that included the possibility of insurers charging
homeowners full risk rates with the government providing targeted
subsidies to help with affordability. Private insurers could play a
greater role in coverage with the federal government possibly serving
as an insurer for only the highest risk properties. Yet another option
is the combination of greater private-sector involvement and the
government acting as a reinsurer by providing a backstop to private
insurers for losses over a certain amount.[Footnote 39]
The size of the losses and the magnitude of the risk associated with
more comprehensive policies underscore the complex challenges of
addressing the costs of catastrophes and other perils that place
homeowners' properties at risk. A mix of factors--financial risk,
large potential losses, political and regulatory issues, policy
affordability, and consumer demand--has thus far made it challenging
for private-sector insurers in the U.S. to offer flood insurance to
homeowners, let alone more comprehensive or all-perils policies. The
possibility of improved data, better risk modeling, and emerging
private-sector interest, however, suggest that some additional
coverage may be possible. For this to happen, private insurers must be
able to assess and diversify risk and charge rates adequate for the
risk they are assuming. At the same time, consumers will need to
better recognize the risk and cost of their housing decisions and the
likely higher rates that come with protecting homes and possessions in
certain locations. One of the most fundamental challenges is achieving
a policy premium rate that allows insurers to stay solvent and meet
their obligations to consumers, yet is affordable enough so that
consumers are willing and able to buy insurance. Addressing this
important challenge and ensuring a collective response to losses
caused by disasters and other perils will require the cooperation and
resources of government, homeowners, and insurers, as well as balance
in the assumption of risk and cost by each of these parties.
Agency Comments:
We provided a draft of this report for review and comment to the
National Association of Insurance Commissioners (NAIC) and the Federal
Insurance Office (FIO) at the Department of the Treasury. Both
provided technical comments which we incorporated into the report as
appropriate.
We are sending copies of this report to the appropriate congressional
committees, NAIC, and FIO. In addition, the report is available at no
charge on the GAO website at [hyperlink, http://www.gao.gov].
If you have any questions about this report, please contact me at
(202) 512-8678 or cackleya@gao.gov. Contact points for our Offices of
Congressional Relations and Public Affairs may be found on the last
page of this report. GAO staff who made key contributions to this
report are listed in appendix V.
Signed by:
Alicia Puente Cackley:
Director, Financial Markets and Community Investment:
List of Addressees:
The Honorable Gerry Connolly:
Ranking Member:
Subcommittee on Government Operations:
Committee on Oversight and Government Reform:
House of Representatives:
The Honorable Corrine Brown:
House of Representatives:
The Honorable G.K. Butterfield, Jr.
House of Representatives:
The Honorable Theodore E. "Ted" Deutch:
House of Representatives:
The Honorable Luis V. Gutierrez:
House of Representatives:
The Honorable Jim Moran:
House of Representatives:
The Honorable Scott Rigell:
House of Representatives:
The Honorable Dennis A. Ross:
House of Representatives:
The Honorable Jan Schakowsky:
House of Representatives:
The Honorable Robert C. "Bobby" Scott:
House of Representatives:
The Honorable Debbie Wasserman Schultz:
House of Representatives:
[End of section]
Appendix I: Objectives, Scope, and Methodology:
In this report we examined (1) the perils homeowners policies
typically cover and exclude; (2) the impacts of exclusions on
homeowners and taxpayers and the potential benefits of more
comprehensive coverage for homeowners; and (3) the additional perils
insurers might be willing to cover and the challenges associated with
such coverage.
To determine what perils homeowners policies typically cover and
exclude, we analyzed the Insurance Services Office's (ISO) standard
homeowners insurance policy (HO-3) and examples of private insurers'
homeowners policies. We reviewed documents by insurance industry
organizations and professional associations, including the National
Association of Insurance Commissioners (NAIC) and the Insurance
Information Institute (III). We also interviewed a nongeneralizable,
judgmental sample of property/casualty insurance companies and state
insurance regulators, insurance and reinsurance associations, an
insurance agent and broker association, consumer groups, academic
insurance and risk experts, and the Federal Insurance Office (FIO) at
the Department of the Treasury. We selected our sample of insurers
based on market share by direct premiums underwritten and
participation in different geographic markets. We selected our sample
of state regulators based on geographic diversity and experience
overseeing insurers with portfolios of different perils, including
floods, hurricanes, and earthquakes.
To determine the impacts of exclusions on homeowners and taxpayers and
the benefits of more comprehensive coverage, we spoke with consumer
groups, including the Center for Economic Justice, academic experts,
selected state insurance regulators, NAIC and FIO officials, and other
insurance association officials. To illustrate some of the financial
impacts of policy exclusions on taxpayers, we obtained publicly
available data from the Federal Emergency Management Agency (FEMA) on
the National Flood Insurance Program's (NFIP) claims costs. For the
NFIP data we used, we interviewed officials on usability and
reliability. We determined that these data were sufficiently reliable
for our intended purposes. In addition, we reviewed our previous work
on natural catastrophe insurance, academic and other studies, and
results from an annual survey conducted by Insurance Information
Institute (III) on homeowners insurance, flood insurance, and disaster
preparedness.
To identify the additional perils that insurers might be willing to
insure and the challenges associated with such coverage, we spoke with
a sample of insurance companies and state insurance regulators,
insurance and reinsurance associations, an insurance agent and broker
association, NAIC and FIO officials, consumer groups, academia, and
others. We also reviewed our previous work on natural catastrophe
insurance, Congressional Research Service (CRS) reviews, and academic
and other studies on these issues. We gathered additional perspectives
on all perils policies from a round table discussion on privatizing
flood insurance that we organized and conducted at GAO headquarters in
Washington, D.C. Participants in the round table included insurance
industry association representatives, select state regulators, and
NAIC and FEMA officials.
We conducted this performance audit from December 2012 to January 2014
in accordance with generally accepted government auditing standards.
Those standards require that we plan and perform the audit to obtain
sufficient, appropriate evidence to provide a reasonable basis for our
findings and conclusions based on our audit objectives. We believe
that the evidence obtained provides a reasonable basis for our
findings and conclusions based on our audit objectives.
[End of section]
Appendix II: Information on the National Flood Insurance Program:
Established in 1968, the National Flood Insurance Program (NFIP) makes
federally backed flood insurance available to residential property
owners and to owners of nonresidential property such as businesses,
churches, governments and nonprofits. Under NFIP, the federal
government generally assumes the liability for the insurance coverage
and sets rates and coverage limitations, among other responsibilities,
while the private insurance industry sells the policies and
administers the claims.[Footnote 40] The Federal Emergency Management
Agency (FEMA) is responsible for administering NFIP.
Community participation in NFIP is voluntary. However, communities
must join NFIP and adopt FEMA-approved building standards and
floodplain management strategies in order for their residents to
purchase flood insurance through the program. Additionally,
communities with Special Flood Hazard Areas (SFHA)--areas at high risk
for flooding--must participate in NFIP to be eligible for any form of
assistance for acquisition or construction purposes in connection with
a flood.[Footnote 41] Participating communities can receive credits on
premium rates on flood insurance if they establish floodplain
management programs that go beyond the minimum requirements of NFIP.
FEMA can suspend communities that do not comply with the program, and
communities can withdraw from the program. As of September 2013,
almost 22,000 communities voluntarily participated in NFIP.
Consumers can purchase flood insurance to cover both buildings and
contents for residential and commercial properties. NFIP's maximum
coverage for residential policyholders is $250,000 for building
property and $100,000 for contents. This coverage includes replacement
value of the building and its foundation, electrical and plumbing
systems, central air and heating, furnaces and water heater, and
equipment considered part of the overall structure of the building.
Personal property coverage includes clothing, furniture, and portable
electronic equipment. For commercial policyholders, the maximum
coverage is $500,000 per unit for buildings and $500,000 for contents
(for items similar to those covered under residential
policies).[Footnote 42] Coverage for personal property and coverage
for nonresidential buildings is written on an actual cash value basis.
NFIP offers two types of flood insurance premiums to property owners
who live in participating communities: subsidized and full-risk. The
National Flood Insurance Act of 1968 authorized NFIP to offer
subsidized premiums to owners of certain properties. Congress
originally mandated the use of subsidized premiums to encourage
communities to join the program and mitigate concerns that charging
rates that fully and accurately reflected flood risk would be a burden
to some property owners. According to FEMA, Congress made changes to
the program over the years to encourage further participation in NFIP
through low premiums. FEMA estimated that in 2012 more than 1 million
of its residential flood insurance policies--about 20 percent--were
sold at subsidized rates; nearly all were located in high-risk flood
areas.[Footnote 43]
Since 2000, NFIP has experienced several years with catastrophic
losses--losses exceeding $1 billion--and has needed to borrow money
from the Treasury to cover claims in some years. The losses resulting
from Superstorm Sandy, which caused extensive damage in several states
on the eastern coast of the United States in October 2012, also are
catastrophic, reaching over $7 billion. As of October 2013, FEMA owed
Treasury $24 billion. As a result of the program's importance, level
of indebtedness to Treasury, substantial financial exposure for the
federal government and taxpayers, and FEMA's management challenges,
NFIP has been on our high-risk list since 2006.[Footnote 44]
[End of section]
Appendix III: Information on the Citizens Property Insurance
Corporation:
Established in 2002, Florida Citizens Property Insurance Corporation
(Citizens) is a not-for-profit and tax-exempt government entity that
provides property insurance to homes and businesses that cannot get
coverage in the private sector.[Footnote 45] It consolidated two
residual market mechanisms: the Florida Windstorm Underwriting
Association (FWUA), created in 1970 to provide high-risk, windstorm,
and hail residual market coverage in select areas of Florida, and the
Florida Residential Property and Casualty Joint Underwriting
Association (JUA), created in December 1992 following Hurricane Andrew
to provide residual market residential-property multiperil insurance
coverage, excluding wind if the property was within FWUA-eligible
areas. A primary driver for the merger was that the combined entity
obtained federally tax-exempt status, allowing it to save federal
income taxes that otherwise would have been paid by FWUA and JUA.
[Footnote 46] As an integral part of the state rather than a private
insurance company, Citizens is also able to issue tax-exempt post-
event bonds and taxable pre-event bonds, which can help finance loss
payments in the event of a major disaster.
Florida law determines the standards Citizens uses to establish its
premium rates. Citizens' rates are required to be actuarially sound,
but at the beginning of 2007, an approved rate increase was rescinded
and rate levels were frozen by the Florida legislature at the 2006
rate levels. The rate freeze remained in effect through December 31,
2009. On January 1, 2010, Citizens began implementation of a
statutorily required path to achieve actuarially sound rates over
time. Except for sinkhole coverage, the path limits annual rate
increases to 10 percent for any single policy issued by the
corporation, excluding coverage changes and surcharges. According to
Citizens officials, Citizens' rates are moving towards actuarial
soundness, but are not yet there.
Citizens allocates approximately 18 percent of every premium dollar it
collects to pay hurricane and catastrophe claims, but in the event
that losses exceed its surplus, it is required by statute to levy
assessments to recover the deficit. Assessments can be charged in up
to three tiers, policyholder surcharge, regular, and emergency. Each
additional tier is charged only if the level before is insufficient to
eliminate Citizens' deficit. Citizens' policyholder surcharge is the
first tier of assessments and can be levied one time for up to 45
percent of the policyholder's premium in a single year. If a deficit
remains in one of Citizens' three types of accounts, Citizens can levy
regular assessments of up to two percent against certain private
insurance companies, who can then pass the cost of these assessments
on to their policyholders.[Footnote 47] Finally, if a deficit
persists, Citizens can impose an emergency assessment on both Citizens
and non-Citizens policyholders.[Footnote 48] This ability to levy
assessments provides Citizens with resources to pay claims to
policyholders. For example, following the 2004 storms, Citizens had to
levy over $515 million in regular assessments to fund its deficit.
Citizens' resources also come from its reinsurance arrangement with
the Florida Hurricane Catastrophe Fund (FHCF). Established in 1993 by
the Florida legislature, FHCF is a state-run reinsurer created to
provide additional insurance capacity and help stabilize the property
insurance market by reimbursing insurers for a portion of their
catastrophic hurricane losses. As a tax-exempt entity, FHCF can
accumulate premium payments on a tax-free basis. If the revenue
generated from premiums is insufficient following a loss event, FHCF,
like Citizens, is required by state law to levy assessments on a broad
base of property/casualty insurance lines to fund revenue bonds to pay
the losses. For example, FHCF issued bonds in the amount of $1.35
billion in 2006 and $625 million in 2008, which are being financed by
a 1 percent assessment levied on property/casualty insurers in the
state.
As of October 2013, Citizens had more than 1.2 million policies in
force, most of which were homeowners policies. According to a Citizens
official, Citizens has recently engaged in depopulation efforts by
seeking ways to return policies to the private market, but these
efforts have been met with challenges. For example, Citizens has faced
challenges with establishing rates higher than those available in the
private market. The insurance distribution process is also a
challenge. For example, according to a Citizens official, private
insurers that decline to sell a homeowner a policy may refer that
homeowner to Citizens instead of recommending they shop the market for
coverage, which has impeded a freely competitive insurance market.
[End of section]
Appendix IV: Information on the California Earthquake Authority:
Established in 1996, the California Earthquake Authority (CEA) is an
instrumentality of the state that sells earthquake insurance policies
for residential property throughout California. CEA is a publicly
managed, privately funded entity. After the Northridge Earthquake that
struck the San Fernando Valley in January 1994, insurers in California
began to limit their exposure to earthquakes by writing fewer or no
new homeowners insurance policies.[Footnote 49] In 1995, California
lawmakers passed a bill that allowed insurers to offer a reduced-
coverage earthquake insurance policy. In offering earthquake coverage,
insurance companies can manage the risk themselves, contract with an
affiliated or non-affiliated insurer, or become a CEA-participating
insurance company and offer CEA's residential earthquake policies. CEA
is the largest earthquake insurer in California, with approximately
840,000 policies in force as of 2011, which represent approximately 70
percent of the residential earthquake insurance policies in the state.
CEA offers a basic residential earthquake policy to homeowners, which
includes coverage for the insured dwelling and limited coverage for
contents and loss-of-use if the residence is uninhabitable due to an
earthquake. For an additional premium, CEA policyholders can
significantly increase insured limits on contents and for loss-of-use,
and homeowners can lower their CEA policy deductible from 15 percent
to 10 percent.[Footnote 50] CEA coverage is available to homeowners
only from the insurance company that provides their residential
property insurance and only if that company is a CEA-participating
insurance company. Participating insurance companies process all CEA
policy applications, policy renewals, invoices, and payments and
handle all CEA claims.
In determining premium rates, CEA is required by law to use the best
science available and is permitted by law to use earthquake computer
modeling, to establish actuarially sound rates. CEA will examine
rating factors, such as the rating territory (determined by ZIP code),
age, and type of construction of a home, in determining the premium
rate.[Footnote 51] The CEA governing board establishes premium rates,
subject to the prior approval of the Insurance Commissioner. In 2011,
for example, a request for a 12.5 percent average statewide rate
decrease was approved beginning with new and renewal policies that
became effective on and after January 1, 2012. The change was a result
of a reduction in the estimated average annual loss, as derived from
new scientific information, according to CEA information. Given that
the rate decrease is expressed as an average statewide rate impact,
individual policyholders may have seen their rates increase or
decrease, depending on CEA product, location of the risk, and other
rating factors.
CEA is funded principally from policyholder premiums, contributions
from and assessments on participating insurers, returns on invested
funds, borrowed funds, and reinsurance. Assessments on participating
insurers may not be directly passed through to policyholders. CEA is
authorized to issue bonds, and may not cease to exist so long as its
bonds are outstanding. As of 2012, CEA had approximately $10.2 billion
in claims-paying capacity, but if an earthquake causes insured damage
greater than CEA's claims-paying capacity, then policyholders affected
will be paid a prorated portion of their covered losses or may be paid
in installments.
[End of section]
Appendix V: GAO Contact and Staff Acknowledgments:
GAO Contact:
Alicia Puente Cackley, (202) 512-8678 or cackleya@gao.gov:
Staff Acknowledgments:
In addition to the contact named above, Paul Schmidt (Assistant
Director); Emily Chalmers; Alma Laris; Marc Molino; Erika Navarro;
Steve Ruszczyk; Jessica Sandler; and Andrew Stavisky made key
contributions to this report.
[End of section]
Footnotes:
[1] A peril is a specific risk or event that may cause a loss.
[2] National Oceanic and Atmospheric Administration, National Coastal
Population Report: Population Trends from 1970 to 2020 (Washington,
D.C.: Mar. 2013).
[3] For the purposes of this report, "industry participants" refers to
those entities with a role in the insurance industry, including
regulators, consumer advocates, industry associations, insurance
company officials, and academic experts.
[4] Additional living expenses are extra charges covered by homeowners
policies over and above the policyholder's customary living expenses.
They kick in when the policyholder requires temporary shelter due to
damage by a covered peril that makes the home temporarily
uninhabitable.
[5] See National Association of Insurance Commissioners (NAIC), A
Consumer's Guide to Home Insurance (Kansas City, MO: 2010) and
Insurance Information Institute (III), Insurance Handbook: A Guide to
Insurance: What it Does and How it Works (New York, N.Y.: 2010).
[6] The amount of coverage available under a homeowners policy is
subject to limits, which are the maximum amounts the insurance policy
will pay in the event of a loss. The limit for the dwelling is
typically selected by the policyholder. The limits for other
structures, personal property, and loss of use are expressed as
percentages of the dwelling limit.
[7] According to industry participants, the valuation method used to
determine the value of a home depends on the language in the insurance
policy. For example, the home's value may be determined by the insurer
or may be based on an appraisal. Each structure may also require a
different valuation method.
[8] See NAIC, A Consumer's Guide to Home Insurance and III, Insurance
Handbook: A Guide to Insurance: What it Does and How it Works.
[9] According to information from a state insurance department, many
insurance companies require policyholders to purchase coverage for at
least 80 percent of the home's replacement cost, and some require 100
percent. If a homeowner is underinsured and suffers a total loss, the
homeowner may be reimbursed up to the coverage limit the homeowner
purchased.
[10] The federal government retains the authority to regulate
insurance, but has given primary responsibility for insurance
regulation to the states in accordance with the McCarran-Ferguson Act
of 1945. See Pub. L. No. 79-5, ch. 20, 59 Stat. 33 (1945) codified as
amended at 15 U.S.C. §§ 1011-1015. See also GAO, Ultimate Effects of
McCarran-Ferguson Federal Antitrust Exemption on Insurer Activity Are
Unclear, [hyperlink, http://www.gao.gov/products/GAO-05-816R]
(Washington, D.C.: July 28, 2005). Nevertheless, the federal
government is involved in a wide range of areas with respect to the
insurance sector, including operation of the National Flood Insurance
Program, and crop and terrorism insurance programs. In addition, the
Federal Reserve Board supervises insurers designated by the Financial
Stability Oversight Council.
[11] Examples of wind risks include hurricanes and tornadoes.
[12] Pub. L. No. 90-448, Title XIII, § 1302, 82 Stat. 476, 572 (1968).
[13] FEMA is part of the Department of Homeland Security.
[14] For more information on NFIP, see Appendix II and recent GAO
work, including GAO, Flood Insurance: Implications of Changing
Coverage Limits and Expanding Coverage, [hyperlink,
http://www.gao.gov/products/GAO-13-568] (Washington, D.C.: July 3,
2013); Flood Insurance: More Information Needed on Subsidized
Properties, [hyperlink, http://www.gao.gov/products/GAO-13-607]
(Washington, D.C.: July 3, 2013) and Flood Insurance: Strategies for
Increasing Private Sector Involvement, [hyperlink,
http://www.gao.gov/products/GAO-14-127] (Washington, D.C.: Jan. 22,
2014).
[15] In addition to providing data and analytics services, ISO
develops standard insurance policy language for use in the insurance
industry. According to some industry participants, insurers may
develop their own proprietary policies that deviate from the HO-3, but
the covered perils and exclusions in those policies typically remain
the same.
[16] For more information on insurable risk criteria, see GAO,
Terrorism Insurance: Measuring and Predicting Losses from
Unconventional Weapons Is Difficult, but Some Industry Exposure
Exists, [hyperlink, http://www.gao.gov/products/GAO-06-1081]
(Washington, D.C.: Sept. 25, 2006) and George E. Rejda, Principles of
Risk Management and Insurance, 8TH ed. (Boston, Mass.: Pearson
Education, Inc., 2003).
[17] Alternatively, a catastrophic loss is one that is extraordinarily
large relative to the number of properties at risk in a given
insurance pool.
[18] Commercial general liability insurance is a standard insurance
policy issued to business organizations to protect them against
liability claims for bodily injury and property damage arising out of
premises, operations, products, and completed operations, as well as
advertising and personal injury liability.
[19] For more information on defective drywall and alternative methods
of providing relief from damage associated with it, see GAO,
Information on Defective Drywall, [hyperlink,
http://www.gao.gov/products/GAO-13-735R] (Washington, D.C.: July 31,
2013).
[20] For more information on wind and flood damage determinations
following Hurricane Katrina, see GAO, National Flood Insurance
Program: Greater Transparency and Oversight of Wind and Flood Damage
Determinations Are Needed, [hyperlink,
http://www.gao.gov/products/GAO-08-28] (Washington, D.C.: Dec. 28,
2007).
[21] An endorsement is sometimes called a rider. In addition to buying
back coverage for certain risks, endorsements can also be used by
insurers to limit coverage in a policy.
[22] Some property owners may also purchase excess flood insurance
from private insurers if the value of their home exceeds the coverage
limits offered by NFIP.
[23] Citizens is a not-for-profit, tax-exempt government corporation
that provides insurance protection to Florida property owners
throughout the state. The corporation insures hundreds of thousands of
homes, businesses, and condominiums whose owners otherwise might not
be able to find coverage. For more information on Citizens, see
appendix III.
[24] The base CEA policy, known as a "mini-policy," is a reduced-
coverage, catastrophic earthquake insurance policy intended to protect
a dwelling, while excluding coverage for costly nonessential items,
such as swimming pools, patios, and detached structures. For more
information about CEA and other state insurance entities, see appendix
IV and GAO, Natural Disasters: Public Policy Options for Changing the
Federal Role in Natural Catastrophe Insurance, [hyperlink,
http://www.gao.gov/products/GAO-08-7] (Washington, D.C.: Nov. 26,
2007).
[25] Some industry participants have emphasized that data to quantify
out-of-pocket losses due to excluded perils are currently unavailable
because insurers generally track the amounts they pay out in claims
but not uninsured loss amounts.
[26] According to the Insurance Information Institute's 2013 Annual
Pulse Survey, about 21 percent of the public believes flooding from a
hurricane is covered. This proportion rises by 8 percentage points in
the south, an area of the United States typically impacted by
hurricanes.
[27] The Stafford Act is codified as amended at 42 U.S.C. § 5121 et
seq. Federal disaster assistance is also provided to state,
territorial, and local governments as well as nongovernmental entities.
[28] For more information on federal disaster assistance for
individuals and households, see [hyperlink,
http://www.gao.gov/products/GAO-08-7]. The Stafford Act specifies that
federal agencies providing financial assistance after a major disaster
cannot provide assistance to an individual for the same loss for which
another federal program or private insurance company has provided
compensation.
[29] GAO, Federal Disaster Assistance: Improved Criteria Needed to
Assess a Jurisdiction's Capability to Respond and Recover on Its Own,
[hyperlink, http://www.gao.gov/products/GAO-12-838] (Washington, D.C.:
Sept. 12, 2012).
[30] For more information on these rebuilding efforts, see Hurricane
Sandy Rebuilding Task Force, Hurricane Sandy Rebuilding Strategy:
Stronger Communities, A Resilient Region (Washington, D.C.: Aug. 2013).
[31] The Biggert-Waters Flood Insurance Reform Act of 2012 (Biggert-
Waters Act) reauthorized NFIP through 2017 and made some significant
changes to the program, such as eliminating premium subsidies for
certain properties, creating a reserve fund, and eliminating the
grandfathering of properties to old rates after remapping. However,
implementation of certain changes was delayed by provisions in the
Consolidated Appropriations Act, 2014. While these Biggert-Waters Act
changes may help increase NFIP's long-term financial stability when
they are implemented, the program still faces challenges in
implementing the changes and their ultimate effect is not yet known.
Biggert-Waters Flood Insurance Reform Act of 2012, Pub. L. No. 112-
141, 126 Stat. 405, 916 (2012). See also [hyperlink,
http://www.gao.gov/products/GAO-13-568] and GAO, National Flood
Insurance Program: Continued Attention Needed to Address Challenges,
[hyperlink, http://www.gao.gov/products/GAO-13-858T] (Washington,
D.C.: Sept. 18, 2013).
[32] Data are current as of September 30, 2013.
[33] Residual insurance pools serve as a coverage source of last
resort for firms and individuals unable to find insurance offered by
private market insurers. Residual markets require insurers writing
specific coverage lines in a given state to assume the profits or
losses accruing from insuring that state's residual risks in
proportion to their share of the total voluntary market premiums
written in that state.
[34] Citizens has three types of internal accounts: Personal lines
account (for personal residential policies); Commercial lines account
(for commercial residential and nonresidential policies); and Coastal
account (for personal residential policies and commercial residential
and commercial nonresidential policies issued by Citizens, which
provide coverage for the peril of wind in certain designated areas.
Citizens can levy three types of assessments: policyholder surcharge,
regular, and emergency. Citizens' policyholders are the first to be
assessed if a deficit occurs. It is a one-time surcharge of up to 45
percent of the policyholder's premium depending on the deficit size.
For the Coastal account, if a deficit remains after the policyholder
assessment, Citizens can levy regular assessments that include a broad
base of licensed Florida property/casualty insurance companies. The
insurers may recoup this assessment amount by passing it on to
policyholders. Finally if deficits still remain for the coastal
account or if any deficit remains after the policyholder assessment
for the personal and commercial lines accounts, a broad range of
property/casualty policyholders, including Citizens policyholders, are
assessed directly by their insurance companies. For each account, this
assessment can be up to 10 percent of the amount needed to cover the
deficit or 10 percent of the aggregate statewide direct written
premium for the subject lines of business and all accounts of the
corporation for the prior year-plus for both interest, fees,
commissions, required reserves, and other costs.
[35] The term "surplus lines" refers to any type of insurance for
which there is no available market within a state and which the state
allows nonadmitted insurers to offer. A nonadmitted insurer is not
licensed to do standard business in the state.
[36] Although one industry participant we spoke with suggested that
expanding private coverage for perils such as mold and nuclear hazard
may be possible, most participants discussed the possibility of
expanding private coverage for natural catastrophes, such as flood and
earthquakes. According to one participant, industry discussions about
expanding homeowners coverage tend to center on natural catastrophes
because these are the perils that most affect homeowners.
[37] Information is as of October 2013.
[38] As we previously reported, requiring insurers to offer an all-
perils policy could be challenging. It is unclear how private insurers
would be encouraged to underwrite all risks and it might not be cost
effective for the federal government if low-income residents require
government subsidies to address affordability issues. If expanded
coverage did not sufficiently reduce post event disaster relief, these
subsidies could cause significant costs for taxpayers. Furthermore,
such a requirement could be challenging for the federal government to
enforce, as has been seen with mandatory flood insurance in
communities in designated floodplains. See [hyperlink,
http://www.gao.gov/products/GAO-08-7].
[39] See [hyperlink, http://www.gao.gov/products/GAO-14-127].
[40] Some of these same insurers also provide coverage for flood
insurance above the limit of NFIP coverage. A number of private
insurers that do not sell and administer NFIP policies also offer
flood insurance. Flood insurance purchased above current NFIP coverage
limits generally is referred to as excess flood insurance.
[41] The National Flood Insurance Reform Act of 1994 requires
individuals, including in SFHAs, who receive disaster assistance for
flood disaster losses to real or personal property to purchase and
maintain flood insurance coverage for as long as they live in the
dwelling.
[42] For information on the implications of changing coverage limits
and expanding coverage, see GAO, Flood Insurance: Implications of
Changing Coverage Limits and Expanding Coverage, [hyperlink,
http://www.gao.gov/products/GAO-13-568] (Washington, D.C.: July 3,
2013).
[43] The Biggert-Waters Flood Insurance Reform Act of 2012 (Biggert-
Waters Act) introduced many changes intended to strengthen the future
solvency of NFIP. In particular, the act eliminated subsidized premium
rates for several types of properties. However, certain changes were
delayed by provisions in the Consolidated Appropriations Act, 2014.
For more information on subsidized properties, see GAO, Flood
Insurance: More Information Needed on Subsidized Properties,
[hyperlink, http://www.gao.gov/products/GAO-13-607] (Washington, D.C.:
July 3, 2013).
[44] GAO regularly reports on government operations that it identifies
as high risk. For the most recent high risk report, see GAO, High-Risk
Series: An Update, [hyperlink, http://www.gao.gov/products/GAO-13-283]
(Washington, D.C.: Feb. 2013).
[45] State government insurance programs, like Citizens, have
typically been created after disasters because homeowners insurance
coverage for catastrophic events is often not available from private
insurers at prices deemed affordable by state legislators and
insurance regulators.
[46] The merger also resulted in some overhead cost savings by having
a single organization.
[47] Citizens has three types of internal accounts: Personal lines
account (for personal residential policies); Commercial lines account
(for commercial residential and nonresidential policies); and Coastal
account (for personal residential policies and commercial residential
and commercial nonresidential policies issued by Citizens which
provides coverage for the peril of wind on risk that is located in
areas eligible for coverage by the Florida Windstorm Association). The
regular assessment is only applicable to the coastal account, and can
be levied on private-market policyholders, including but not limited
to homeowners, auto, and specialty and surplus lines policies.
[48] This assessment can be charged at a rate of up to 30 percent of
premium (up to 10 percent per account with a deficit) per year until
any remaining deficit is eliminated.
[49] California insurers had collected $3.4 billion in earthquake
premiums in the 25-year period prior to the Northridge Earthquake and
paid out more than $15 billion on Northridge claims alone.
[50] In July 2011, the "Homeowners Choice" product was approved and
became available to consumers beginning July 1, 2012. According to CEA
information, this product enhances availability and affordability as
it offers more choice in coverage options and allows consumers to
manage their residential earthquake insurance premium.
[51] CEA applies a 5 percent premium discount to dwellings that meet
the following requirements: the dwelling was built before 1979, the
frame is tied to the foundation, it has cripple walls braced with
plywood or its equivalent, and the water heater is secured to the
building frame.
[End of section]
GAO’s Mission:
The Government Accountability Office, the audit, evaluation, and
investigative arm of Congress, exists to support Congress in meeting
its constitutional responsibilities and to help improve the
performance and accountability of the federal government for the
American people. GAO examines the use of public funds; evaluates
federal programs and policies; and provides analyses, recommendations,
and other assistance to help Congress make informed oversight, policy,
and funding decisions. GAO’s commitment to good government is
reflected in its core values of accountability, integrity, and
reliability.
Obtaining Copies of GAO Reports and Testimony:
The fastest and easiest way to obtain copies of GAO documents at no
cost is through GAO’s website [hyperlink, http://www.gao.gov]. Each
weekday afternoon, GAO posts on its website newly released reports,
testimony, and correspondence. To have GAO e-mail you a list of newly
posted products, go to [hyperlink, http://www.gao.gov] and select
“E-mail Updates.”
Order by Phone:
The price of each GAO publication reflects GAO’s actual cost of
production and distribution and depends on the number of pages in the
publication and whether the publication is printed in color or black
and white. Pricing and ordering information is posted on GAO’s
website, [hyperlink, http://www.gao.gov/ordering.htm].
Place orders by calling (202) 512-6000, toll free (866) 801-7077, or
TDD (202) 512-2537.
Orders may be paid for using American Express, Discover Card,
MasterCard, Visa, check, or money order. Call for additional
information.
Connect with GAO:
Connect with GAO on facebook, flickr, twitter, and YouTube.
Subscribe to our RSS Feeds or E mail Updates. Listen to our Podcasts.
Visit GAO on the web at [hyperlink, http://www.gao.gov].
To Report Fraud, Waste, and Abuse in Federal Programs:
Contact:
Website: [hyperlink, http://www.gao.gov/fraudnet/fraudnet.htm];
E-mail: fraudnet@gao.gov;
Automated answering system: (800) 424-5454 or (202) 512-7470.
Congressional Relations:
Katherine Siggerud, Managing Director, siggerudk@gao.gov:
(202) 512-4400:
U.S. Government Accountability Office:
441 G Street NW, Room 7125:
Washington, DC 20548.
Public Affairs:
Chuck Young, Managing Director, youngc1@gao.gov:
(202) 512-4800:
U.S. Government Accountability Office:
441 G Street NW, Room 7149:
Washington, DC 20548.
[End of document]